This website only stores essential cookies to function properly. With your consent, we will use additional cookies to improve the browsing experience. Please click on "Allow all cookies". For further information and to withdraw your consent at any time, please visit our Privacy Policy page.

When to dump an investment

When to Dump an investment?

There’s been a lot of talk about bears, bulls and stags in the last five or so months. So, what’s the take on buying and indeed selling of stocks, funds and equities (shares)?

The Secret of buying and selling

Probably you won’t be surprised to know that making money on investments involves just two key decisions:

  • Buying at the right time, and
  • selling at the right time

OK, I might be teaching you to suck eggs here, but bear with me. To make a profit, you have to execute both of these decisions correctly.

It’s the Purchase Price

Actually the return on any investment comes down to the purchase price.

In fact, if you’re being really philosophical (and taking a page out of Schrödinger’s cat), you could argue that a profit or loss is actually made at the moment it’s purchased – the buyer just doesn’t know which, until it’s sold.

While buying at the right price may ultimately determine the profit gained, selling at the right price guarantees the profit (if any), in other words if you don’t sell at the right time, the benefits of buying at the right time disappear.

Decisions, Decisions

Many investors have trouble deciding to sell an investment, and sometimes the reason is simple: the innate human tendency toward greed (Gordon Gekko was right).

However, there are several strategies you can use to identify when it is (and when it isn’t) a good time to sell.

The most important thing about these strategies is that they attempt to take some of the human emotions out of the decision-making process and lean heavily on trying to avoid something we call “human behaviour bias”.
 

Give Me Three Good Reasons

There are generally three good reasons to sell an investment:

The first, surprisingly is that buying the investment was a mistake in the first place and it’s time to dump it and move on.
Second, the investment price has risen dramatically and you think this is as good as it’s going to get.
Finally, the investment has reached a silly and unsustainable price. (Bitcoin anyone?)
So let’s just look at each of these three scenarios in a little more detail.

1.) The Mistake

Presumably, before you bought you put some research into the investment.

But suddenly you discover that you’ve made an analytical error and you realise the underlying asset was not a suitable investment in the first place.

So, you should sell that investment, even if it means incurring a loss.

The key to successful investing is to rely on your data and analysis instead of emotional mood swings. If that analysis was negatively flawed for any reason, sell and move on.

2.) Dramatically Rising Price

It’s very possible that a share you just bought rises dramatically in a short period of time.

Remember, many of the best investors are the most humble investors.

So, don’t take that fast rise as affirmation that you’re smarter than the overall market – you’re not – and, unless you’re prepared for what could be the inevitable fall, then it may be in your best interest to sell, now.

3.) Silly Prices

So when has an investment price gone silly? And, couldn’t this be confused with scenario 2 and a dramatically rising price?

Well firstly, silly prices usually are not the realm of funds and stocks, but more the remit of equities (shares) and this means that we can apply some slightly different rules of analysis.

A reasonable selling rule is to sell when the company’s P/E (Price to Earnings) ratio significantly exceeds its average P/E ratio over the past 5 or 10 years.

For example, at the height of the internet boom in the 2000s when it launched its first website, shares in the retailer John Lewis had a P/E of 50 times earnings. Despite John Lewis’s unquestioned quality (you may want to ask Boris Johnson), any owner of John Lewis shares should have seriously considered selling at that time (and potential buyers should have considered looking elsewhere because there was no profit to be had in buying).

When a loss might be the Best Thing

Any sale that results in profit is a good sale, particularly if the reasoning behind it is sound. That’s obvious.

On the other hand, when a sale results in a loss but there’s an objective understanding as to why that loss occurred, it too may be considered a good sell and may result in avoiding a potentially greater future loss.

Actually, selling is only a bad decision when it’s dictated by emotion rather than data and analysis.

Disclaimer: This blog is an expression of the individual author’s views on topical issues and does not necessarily reflect the views of the publisher. It is not intended to be comprehensive or the provision of investment advice. No liability is accepted for the opinions it contains, or for any errors or omissions. In all cases, you should seek professional advice specific to your circumstances. Published by © Moore Dixon Isle of Man, an independent member firm of Moore Global. Moore Global is regarded as one of the world’s leading accounting and consulting networks with 547 member and correspondent offices in some 113 countries. Moore Dixon Financial Services Limited is a company incorporated in the Isle of Man No. 111421C. Licensed by the Isle of Man Financial Services Authority.